Week 10: Non-Bank Financial intermediaries

Question 1

What are NBFI?

Answer 1

A broad measure of non bank financial services that are not banks or public financial institutions.

Their source of funding is market based not deposit based.

Question 2

Why don’t NBFI pose the same risks to the financial system as banks?

Answer 2

Because they do not perform the same maturity,risk and asset transformation banks do.

But certain NBFI can amplify shocks through their linkages with other parts of the financial system.

Question 3

What are OFI and what are is it comprised of?

Answer 3

OFI is a subset of NBFI.Comprising of investment funds, captive financial institutions, central counterparties and finance companies.

Question 4

What are some Banks vs NBFI key features?

Answer 4

• Sources of funds
• Regulation and oversight
• Risk tolerance
• Lending products and specialisation
• Capital adequacy and resilience to shocks
• systemic importance
• Screening and Monitoring

Question 5

What is shadow banking?

Answer 5

A subset of NBFI. It’s a credit intermediation involving entities and activities fully or partially outside of the regular banking system.

Question 6

How can credit intermediation by the shadow banking sector be risky?

Answer 6

It can become a source of systemic risk when:

1. They are structured to perform bank like functions. (Maturity transformation)
2. Their interconnectedness with the regular banking system is strong.

Question 7

What is securitisation?

Answer 7

A form of bank financing that allows lenders to sell of the loans repackaged as securities to other banks or investors.

Question 8

What is loan origination?

Answer 8

Loan origination is the process by which a lender generates a new loan for a borrower. It involves all the steps from the initial application to the disbursement of funds. Key activities in the loan origination process typically include:

1. Application: The borrower submits an application for a loan, providing information about their financial situation, credit history, and the purpose of the loan.
2. Review and Underwriting: The lender reviews the application, verifies the borrower’s information, assesses their creditworthiness, and determines the terms and conditions of the loan.
3. Approval: If the borrower meets the lender’s criteria, the loan is approved. This may involve additional documentation and steps, such as appraisals for mortgage loans.
4. Documentation: The borrower and lender finalize the loan agreement and associated documentation, including promissory notes, security agreements, and disclosures.
5. Funding: Once all documentation is in order, the lender disburses the loan funds to the borrower.
6. Servicing: After the loan is originated, the lender may handle ongoing tasks such as collecting payments, managing escrow accounts, and providing customer service to the borrower.

Loan origination is a critical function for lenders, as it enables them to generate revenue by extending credit to borrowers while managing the associated risks.

Question 9

What is Loan warehousing ?

Answer 9

Loan warehousing refers to a financial arrangement in which a lender temporarily holds a portfolio of loans before selling them off to other investors, typically in the form of asset-backed securities (ABS) or mortgage-backed securities (MBS).

Here’s how it works:

1. Acquisition of Loans: The lender originates or purchases a pool of loans, such as mortgages, auto loans, or commercial loans.
2. Temporary Holding: Instead of immediately selling these loans to investors, the lender holds them in a “warehouse” or holding facility for a period of time.
3. Pooling and Structuring: During the warehousing period, the lender may pool together similar types of loans and structure them into securities, such as ABS or MBS, based on factors like credit rating, maturity, and interest rate.
4. Securitization: Once the pool of loans reaches a sufficient size, the lender sells them to investors in the form of securities, transferring the credit risk associated with the loans to the investors.
5. Release of Capital: By selling the loans, the lender can free up capital that can be used to originate new loans, thereby continuing the lending cycle.

Loan warehousing allows lenders to manage their balance sheet and liquidity needs by providing a mechanism to temporarily hold loans before offloading them to investors. It also enables lenders to diversify their funding sources and access capital markets for financing.